Bearish investors look at the chart below and immediately notice that Fed intervention in the form of QE1 and QE2 (quantitative easing program 1 and 2, or perhaps more accurately, money printing programs 1 and 2) occurred after substantial market declines. QE1 is announced after the Lehman Brothers collapse in 2008 and QE2 is hinted at when Bernanke addressed the Jackson Hole conference in the summer of 2010 (after we learned of the Greek debt problems). Given that last week’s news regarding fourth quarter GDP was somewhat disappointing, bears would warn risk takers not to count on the Fed to announce a new QE3 program that would support the equity markets until after the next major stock market correction, or bear market. In addition, the magnitude of the impact of the Fed announcements on the market seems to be diminishing. The market move during QE2 was less than QE1, and the subsequent policy shifts have had less impact than QE2.
Bullish investors, on the other hand, point to the fact that each of the Fed’s moves has had an immediate positive impact on risk prices. QE1, QE2, and the more recent policy moves (Operation Twist, Currency dollar swap announcements, and announcements about future Fed Fund rate targets) have all occurred after the market suffered a significant decline, and they’ve all served to put a floor under the bearish move. Bulls would happily point out that the Fed has managed to put in place several reflationary policies over the past six months while still keeping QE3 in their back pocket. In other words, while the Fed seems to be running out of policy options at the 0 bound (0% Fed Funds rate), they still have the ability to pump a huge amount of liquidity into the markets if needed.
Pinnacle’s recent portfolio policy decision to migrate towards neutral risk levels gives some consideration to the notion that the Fed may be managing to calm investor’s concerns about bearish tail risk. As always, the problem is with the timing.
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